Opalesque Round Table

Opalesque Round Table Series
NEW YORK
Opalesque Roundtable Series Sponsor:
opalesque.com
Editor’s Note
Why the short side may soon work again
So far in 2013, the short side has caused a lot of frustration for long/short managers. With the markets going straight up, not only has shorting
not worked, the top 50 most shorted stocks in the S&P 500 have actually outperformed the S&P by 20% this year. These things typically
happen in a market beta rally where typically all junk stocks rally. That, by the way, also explains why the average equity long/short fund is up
only about 8% for the year net, so much less than the S&P.
Visium Asset Management did a study on this phenomenon, looking back at the last 25 years across multiple cycles in a 12 month time period.
When the most shorted stocks outperform by this much, then typically they start to mean revert drastically. This could be a very opportune
time for the short side, and for hedge funds generally.
Investing in peer to peer and online lending
Increased regulation will not dampen but further fuel the growth of alternative and online lending industries. New players have launched funds
which pioneered the use of leverage and securitization in a peer-to-peer lending asset class. Five to seven years ago, it wasn't thought
possible for an institutional investor to assemble a portfolio north of $100m or more in small balance loans. However, technological changes
over the last few years have made it possible to originate and acquire these loans in a very cost effective manner. The traditional, bricks-andmortar banking cost structure requires institutions to spend 5% to 7% of the principal balance of the loan in origination – general overhead,
regulatory, and other costs. The online lending industry can originate loans for less than 2%, so, effectively, there is an arbitrage built into this
asset class that is reminiscent of many other credit categories that over the years have been disintermediated.
The Opalesque 2013 New York Roundtable also discussed:
• Tax-efficient investing: How hedge fund investors can get the best after-tax returns
• How “structural alpha” can preserve and even amplify returns
• How to profit through post-reorganization and turnaround equities
• What are the biggest opportunities in China and Latin America?
• With the introduction of OTC clearing, a major challenge for the buy side is having to provide collateral for initial margin on a daily basis.
How do the clearing houses help?
• How fund administrators help smaller managers get off the ground and grow faster.
The Opalesque 2013 New York Roundtable was sponsored by Maples Fund Services, Eurex and Taussig Capital and took place November
12th with:
1. Bob Kim, Visium Funds
2. Ambrose Paxson, PING Capital
3. David Tawil, Maglan Capital
4. Jim Robinson, Middlebury Securities (representing Taussig Capital)
5. Jonathan Barlow, Eaglewood Capital Management
6. Byron Baldwin, Eurex North America
7. Jason Brandt, Maples Fund Services
Enjoy the read!
Greg de Spoelberch
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Participant Profiles
(LEFT TO RIGHT)
Greg de Spoelberch, Ambrose Paxson, Jonathan Barlow, Jim Robinson, Bob Kim, David Tawil, Jason Brandt
Absent at the time of taking the photograph: Byron Baldwin
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Introduction
David Tawil
Maglan Capital
Jim Robinson
Middlebury Securitiest
Ambrose Paxson
PING Capital Management
My name is David Tawil, I am a Co-Founder and Portfolio Manager of Maglan Capital. We are a
$60m event-driven, distressed focused fund that principally invests across the capital structure of
companies approaching or undergoing turnaround, distress, bankruptcy or restructuring. Our fund
has done very well of late – it gained 41% last year and is up 39% year to date. Our target returns
are 15% to 20%. My background is in bankruptcy, restructuring, turnaround and distressed. Prior
to starting Maglan, my partner, Steven Azarbad and I worked on the sell-side at Credit Suisse, with
a proprietary investing mandate. Steven and I started our careers together at Skadden Arps,
practicing bankruptcy law. Steven clerked for the Delaware bankruptcy court and also worked at Weil
Gotshal. In addition, I practiced at Davis Polk & Wardwell. Our investment strategy plays to the
strengths of our backgrounds, contacts and experiences. The best recent and current opportunity
we see in our investment strategy is in post-reorganization equities. However, we are mindful and
anticipating a corporate distressed wave in the United States beginning within two years.
My name is Jim Robinson, I am a Principal at Middlebury Securities. Our firm has been around for
15 years and focuses on a number of different areas, one of which is particularly germane as these
days we're in partnership with Taussig Capital. We have built a platform in Bermuda where we advise
asset managers on launching reinsurance companies. We have three different companies in the
market at the moment where we raise permanent equity capital which is then supplemented by
premiums from the reinsurance business to supplement the existing asset management business.
This is a strategy that has gained momentum recently with public floatation of Dan Loeb's Third
Point Re.
My name is Ambrose Paxson, I am the CFO and COO of PING Capital Management. We are a
Global Macro manager biased towards emerging markets. We have offices in New York and
Shanghai.
We currently manage two funds, the PING Exceptional Value Fund (PEVF) and PING Emerging
Markets Macro Fund (PEMMF). PEVF was launched in 2008 and is one of the top performing
emerging market funds in the world with + 36.9 % net annualized return through October 2013. The
PEMMF was launched in December 2010 and is a more diversified and liquid alternative created
for institutional investors.
Both funds utilize the same investment themes but PEVF can be concentrated in Ping’s highest
conviction ideas whereas PEMMF is a more diversified alternative. PEMMF tends to outperform
PEVF in choppy markets, as it did in 2011 and 2012.
Firm’s assets under management (AUM) were approximately $315m at the end of October 2013.
Ping and employees are invested side by side and make up significant amount of total assets.
The senior members of the team have worked with the CIO, Ping Jiang, at both Lehman Brothers
and SAC Capital, some for over 15 years. During this period the team successfully navigated
multiple global crises including Asia crisis, Russia crisis, Brazil devaluation, Argentina devaluation
amongst others.
Jason Brandt
Maples Fund Services
4
My name is Jason Brandt, I am with Maples Fund Services where I am the Regional Head
overseeing the Americas. We are an administration and consulting firm providing support and
services to hedge funds, private equity funds and family offices. We have approximately $40bn
under administration currently and service our clients around the world through our offices in Hong
Kong, Singapore, Dubai, Dublin, Luxembourg, Montréal, Cayman and New York.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Jonathan Barlow
Eaglewood Capital Management
Bob Kim
Visium Asset Management
Byron Baldwin
Eurex Clearing
My name is Jon Barlow, and I founded Eaglewood Capital Management in 2011 as the first asset
management firm exclusively dedicated to investing in small balance loans via online lending
strategies. Last year, we launched our first fund, Eaglewood Income Fund I, which pioneered the
use of leverage in the peer-to-peer lending asset class. We put together the first warehouse line of
credit in the asset class, and in September, we closed the first ever securitization of peer-to-peer
loans.
Our fund is up 13.2% year-to-date as of October 31, 2013. About two months ago we launched a
new fund with a single investor that we have not yet publicly announced, but it is also focused on
investing in small balance loans through online lending strategies.
My name is Bob Kim. I am Portfolio Manager and also Director of Research for Visium Asset
Management. Visium is a multi-strategy asset management firm with $5bn AUM across several
funds. We have a primary focus in fundamental equity long-short. The firm was started in 2005 by
Jacob Gottlieb, our Managing Partner and Chief Investment Officer. Today we have about 135
employees with a satellite office in London.
My name is Byron Baldwin, Senior Vice President, OTC Clearing for Eurex Clearing based in New
York. I work with both the buy side and sell side in North America with regards to Eurex Clearing’s
OTC clearing offering, EurexOTC Clear.
Eurex Clearing is Europe's leading CCP clearing house, processing gross risks valued at almost
EUR 8.5tln every month, with fully-automated, straight-through post-trade services for derivatives,
cash equities, repo and fixed income transactions including the clearing of bilaterally agreed offexchange transactions.
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Greg de Spoelberch
Please give us an update about your market, your industry and the opportunities you see.
Bob Kim: Our focus is to drive performance through stock selection, both on the long and short side of the portfolio.
That is where our mandate and our core competency lies.
The environment has been very good for us in the last two years. 2011 was a tough year where macros really drove a
lot of the performance and correlation was very high. Since then correlation has come down and continues to stay
low. We are very bullish about the prospects going forward - even if the market does go down or go sideways,
fundamental stock picking on both sides of portfolio is working. That plays very well into our strengths.
The other specific opportunity I wanted to point out is the relevance of tax-efficient investing. I
run an equity long/short fund but it’s also tax-efficient. Why is that important? As we all
know, tax rates are going up and if you are a taxable investor, taxes have become the
biggest factor of your investment returns.
Investors typically tend to focus on any fund manager's net-of-fee returns, but in fact it's the
after-tax returns that really counts. Depending on what state you live in current tax rates could
go higher than 50% and therefore considerably eat into investment performance. The
fund that I run is first and foremost focused on generating good gross and netof-fee, hedge fund like returns, but then I think about how to structure positions
and manage positions without changing the economic view or the investment
strategy in order to get the best after-tax outcome for our investors.
To exemplify this, our fund this year is up 16% net-of-fees YTD, but the
effective tax rate is just 17% for our investors in that fund.
Jim Robinson: I agree completely about the taxes. You have got a 50% drag from the tax system, that’s an easy factor
to identify, and then the question comes up how you mitigate it.
We have a term that was coined by Joe Taussig, who is one of our partners, called
“structural alpha”. Structural alpha is the effort to use your structure to preserve returns
and amplify them to the extent possible. When we set up reinsurance companies
sponsored by hedge fund managers – I'll use one that we have in market right now as an
example who has generated about 9.2% per annum over the last 16 years – the hedge fund
manager will get a two time multiple premium to capital. We are setting up the structure in
Bermuda, so we are very tax-efficient. The corporate tax rate is zero and we are
anticipating 20% ROEs on a tax-deferred basis for investors, and that
completely qualifies the reinsurance company because the way we run it.
We also had the opportunity at the recent Opalesque Connecticut
Roundtable to highlight how structural innovation can preserve and
amplify returns, even in a generally high tax environment.
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
David Tawil: The majority of our holdings, 60% of our net-asset-value at any point of time, are core, long holdings that
are typically held for 18 to 24 months. That means we are very much focused on achieving long-term capital gains.
As I alluded to in the introduction, we have been focused on post-reorganization and
turnaround equities. We are in a low default rate and low interest rate environment, and the
bulk of corporate maturities don't kick in until 2016-2017.Therefore, the fixed income asset
class is not very interesting at this point in the economic cycle. We think that the Fed has
provided for a very bullish environment for at least another 12 to 18 months from now, and
although there will be pullbacks at times, the fixed income market should experience
increasing shock and tremor as time goes on and interest rates begin to grind
higher.
Maglan plays across the capital structure; our mandate is flexible and, therefore as
we near the corporate high-yield maturities of 2016-2019, Maglan will increasingly
shift its focus and the bulk of the portfolio toward the debt side of the world.
David Tawil
For example, three years ago, our fund was 80%-plus concentrated in debt. Some restructurings
were almost purely financial and the embedded value was unlocked quickly. For other investments,
the bankruptcy unlocked some value, but there was still a fair amount of additional value to be
gained from the operational turnaround that was to come and, in many instances, is still occurring.
In those situations, we have held our position through bankruptcy, taking equity and adding and
continuing to be invested while the operational turnarounds continue.
David Tawil: In addition, in many turnaround investments, there are numerous technical events that can unlock value.
For instance, one of our larger investment positions is the equity of Metro-Goldwyn-Mayer (MGM) Studios. Prior to
going through Chapter 11 in 2010, the movie studio hadn’t produced a film in two years. Since coming out of
bankruptcy, the equity has traded privately, over the counter. The company has executed on a sensational operational
turnaround. Now, we are waiting for an IPO, the remaining technical hurdle, and we have
ridden the equity from a cost basis of about $20 a share to a current price of $69 a share, and
fair value is probably somewhere in the $90s, even if you don’t get to the very highest
valuation multiples in the industry. We see a lot of opportunities like this one.
We have a pretty programmatic investment outline. We look for companies that are
substantially undervalued vis-à-vis their peers and stabilizing or growing revenues with
CapEx and other expenses that can easily come down, resulting in growing
cashflows. Once we are dealing with growing cashflows, we identify the events
that will unlock that additional value that is not represented in the current price.
As long as the cashflows are growing, we are essentially getting paid to wait
while those events develop and materialize. The strategy is applicable to
equity and debt investments; our debt investments are always taken with the
assumption that we’ll convert our holdings into equity of a restructured or
reorganized entity. That is our approach, repeating it over-and-over, and it’s
worked very well for us.
Ambrose Paxson: We are a Global Macro Manager biased towards Emerging Markets. The two markets we currently
find most interesting are China and Latin America. The Team has been doing extensive research in China Fixed
Income, currency, and equity markets over the last five years and has been benefiting from many trading opportunities
there. For example, in 2009 China was up over 20% before global markets started to rally providing a clue to a broader
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market rally. The PING Exceptional Value Fund finished up over 190% net that year. Since then,
China has become a much more difficult market to trade and the Team has generally become
cautious on the equities. Currently our China equity trading focuses on sectors like energy and
financials.
Our original background going back to our days at Lehman Brothers was in Latin American
currencies and fixed income. This region is also an area of strong focus at PING Capital.
Our expertise trading these markets allows us to take advantage of a wider range of
investment opportunities in fixed income, foreign exchange and equities. Currently we
have seen some interesting relative value trades in Brazil, Mexico and Argentina.
Our view as we go into 2014 is increased market volatility and securities selection will
be key factors when looking for economic value on the long and short side and we
need to be positioned to trade them nimbly.
Jonathan Barlow: When it comes to alpha generation, our firm was really set up to exploit disintermediation
opportunities in the traditional bricks-and-mortar banking system and to create alpha that is uncorrelated to most
strategies in the alternative investment space, which is why our focus is to invest in loans that have very small
average balances.
In our peer-to-peer fund, the average loan size right now is approximately $13,000, and there are over 9,000 loans in
the portfolio. Right now loans of this size, not just in the consumer unsecured space but also in the auto space, the
small business lending space and many other credit categories, are completely ignored by traditional financial
institutions as well as large institutional investors.
We have found that there is an opportunity to achieve high yields with short duration while maintaining solid credit
quality in this asset class and we have been able to efficiently assemble large portfolios of these loans through online
lending technologies.
Five to seven years ago, we didn’t think it was possible for an institutional investor to assemble
a portfolio north of $100m in small balance loans. Technological changes over the last few
years have made it possible to originate and acquire these loans in a very cost-effective
manner that simply wasn’t possible five to seven years ago. If you look at the traditional,
bricks-and-mortar banking cost structure, these institutions will spend 5% to 7% of the
principal balance of the loan in origination on general overhead, regulatory, and other costs.
We think the online lending industry can originate loans for less than 2%, so there
is an arbitrage effectively built into this asset class that we think is reminiscent of
a lot of other credit categories that over the years have been disintermediated.
Just look at high yield bonds in the 1980s or commercial mortgages in the early
1990s. These were assets that traditionally were not owned by large
institutional investors, and we believe that going forward small size loans will
increasingly be owned by institutional investors who currently have practically
zero exposure.
Jonathan Barlow
9
Which is why we believe there is a lot of alpha to be generated in our asset class. Eaglewood
enhances that alpha generation through our own proprietary credit selection processes as well as
with the use of leverage. We are one of the only players in our industry right now that has figured
out how to apply leverage to these assets. We also think there is a lot of alpha and value to be
created through the structuring process with the online lending platforms through which we acquire
loans. We negotiate concessions, legal protections and rights that are unique and proprietary to our
firm.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Byron Baldwin: Over the recent years, global markets have seen many far-reaching regulatory changes. Mandatory
OTC clearing for IRS and credit under Dodd Frank is now in place in the U.S., and now the focus will shift to Europe
and OTC clearing in Europe. One of the biggest challenges for the buy side with the introduction of OTC clearing is
having to provide collateral for initial margin on a daily basis. EurexOTC Clear accepts a wide range of eligible
collateral, governments, corporates, equities – over 25,000 ISINs – to meet margin requirements. From May 2014,
EurexOTC Clear will offer the cross margining of Eurex-listed derivative products and IRS which will give the buy side
significant margin and collateral efficiencies. We are currently offering all buy side firms to send us portfolios of listed
and IRS positions so they can see the margin efficiencies they will achieve with cross margining.
EurexOTC Clear offers an innovative and unique interim participant facility whereby if the buy side firms’ Clearing
Member were to default, then Eurex Clearing would give the buy side firm its own clearing membership and mnemonic
that would allow the buy side firm to meet margin direct with Eurex Clearing and, more importantly, to continue trading
IRS for up to five days. This gives the buy side invaluable time to arrange the porting of positions to a new Clearing
Member.
The default of Lehman Brothers in 2008 taught us the lesson at Eurex Clearing that client asset protection is extremely
important to the buy side. Eurex Clearing became the first CCP globally to introduce individual segregation of client
assets in listed derivatives in 2011, and this is a cornerstone of EurexOTC Clear, our OTC clearing offering. It gives the
buy side maximum protection of client assets against a Clearing Member default with client assets fully segregated
from those of the Clearing Member – providing protection of actual collateral, not by value.
In fact, whilst other CCPs are now looking at introducing individual segregation for the first time – providing individual
segregation by value is a regulatory requirement for OTC clearing under EMIR in Europe – Eurex Clearing has already
upgraded the individual segregation offering with an innovative client asset tagging
system. So now Eurex Clearing can either offer full segregation of client assets on a
per fund basis or with collateral tagging, an omnibus fully segregated collateral
account with collateral tagged for each specific fund. Also, after listening to
feedback from the buy side, Eurex Clearing recently introduced the option of
direct collateral transfer to the segregated collateral account rather than
transferring collateral via the Clearing Member, thereby significantly improving
operationally the whole collateral transfer process and also eradicating transit
risk.
I would also like to add that EurexOTC Clear currently has an onboarding fee
incentive program that if a firm onboards to EurexOTC Clear by 31
December 2013 they would pay no clearing fees for IRS until
January 2016 – that’s a great saving for the buy side.
Byron Baldwin
10
Eurex Clearing also provides a unique Securities Lending CCP offering which mitigates counterparty
risk in the bilateral securities lending market. Eurex Clearing’s Lending CCP offering does not disrupt
the bilateral relationship between beneficial owner/agent lender and the broker dealer. Bilateral
securities lending transactions are novated currently by way of Pirum Real Time Service, Eurex
Repo-Sec Lend and SL-x to Eurex Clearing. All post trade functionalities like corporate actions, loan
deliveries, recalls etc are handled by Eurex Clearing. Through a tri-party collateral agreement and
a unique special lenders' license, the beneficial owner has clearing membership of Eurex Clearing’s
Lending CCP that does not require daily margin payments or contributions to the Default Fund.
Finadium recently produced a paper entitled, ‘A Cost/Benefit Analysis Roadmap for Securities
Lending CCPs’, I would thoroughly recommend everyone at this roundtable to read it; it shows the
real benefits for both the beneficial owner and broker dealer of a securities lending CCP.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
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Jason Brandt: The market has changed significantly in the consultancy and fund administration industry as well over
the last couple of years, and we feel there are many opportunities available with the number of changes have taken
place. For example, the consolidation of firms through acquisitions has slowed recently, but it takes a couple years to
complete a full integration, especially with some of the larger institutions. During the integration period, there are
service disruptions and system changes that impact existing clients of the firms involved. This disruption provides
firms like ours with an opportunity to present our servicing capabilities and high level of client attention
and service. Another example would be the all the regulatory requirements that have come into
effect or will be coming into effect in the near future (i.e. Form PF, AIFMD, FATCA, etc.). Many
investment managers do not have the expertise or technology internally to handle all the
regulatory requirements and filings. We are able to support our clients with their filing needs
and can help provide them guidance on the various regulatory filing requirements.
Due to the all the regulatory changes and the further development in investor requirements,
the barriers of entry for smaller managers have increased dramatically. Many of the
smaller managers are failing the due diligence being done by institutional investors
because they do not have an “institutional infrastructure”. We view this as an
opportunity to help smaller asset managers and give them the guidance and the
technology to help them pass these types of requirements being imposed on them
by prospective investors, which will ultimately help them raise capital.
Greg de Spoelberch
Jonathan, online lending is a new and interesting sector. I was wondering, what are the
barriers to entry in the online lending industry?
Jonathan Barlow: Well, I think it is easy to start an online lender, but rather difficult to start a
credible one. You need significant balance sheet capital even if you are not holding onto the
credit risk to support a real origination and servicing operation that would attract capital from
institutions such as ours.
The creation of the CFPB (Consumer Financial Protection Bureau) and other regulations
that have come into play over the last five years have caused the regulatory barriers
to entry become fairly significant and they will likely increase over time.
Greg de Spoelberch
What trends and preferences do you see at the investor side? Any observations on
investments flows? What are investors demanding today?
Byron Baldwin: The buy side wants efficiencies and maximum client asset protection. The default of MF Global and the
Peregrine Financial Group showed us all how important client asset protection is. Maximum client
asset protection for the buy side is a ‘must have’ not a maybe. EurexOTC Clear provides
maximum protection to client assets in a Clearing Member default with its individual client
asset segregation offering.
It is difficult enough for the buy side in the current financial market conditions to generate
alpha, so the buy side wants efficiencies in the new mandated OTC clearing world I talked
about. EurexOTC Clear will give significant margin and collateral efficiencies to the buy
side with the cross margining of listed and OTC products.
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Jason Brandt: When it comes to investor inflows, we see that the overall amount of inflows are smaller, and they are
not coming as quickly or frequently as the managers would like. The barriers of entry continue to be very high for
smaller managers. Our firm is offering an emerging manager platform to give new and smaller managers strong
operational support so that institutional investors are more comfortable in allocating capital to them. But again,
depending on a manager's size, there are restrictions for institutional investors because they generally do not want to
own greater than 5-10% of a fund.
Being on such a platform helps managers deliver to their investors exactly what they need in
terms of transparency, monitoring and risk attribution. It allows investors to generally come to
a good understanding about what managers are doing with their portfolio and what is driving
their trades and their returns.
The number one demand investors have and managers need to comply with is transparency,
and this can be defined in a couple of different ways. Depending on the type of strategy,
investors will look at various concentration levels, for example, by position, industry
or sector, geography or currency, etc. The frequency could be as much as daily –
however the data will mostly be given on a T+1 basis. The managers generally
are not giving out their trades in real-time, unless in a rare case it is a requirement
of a separately managed account.
Greg de Spoelberch
Your firm interfaces directly with some public pensions, right?
Jason Brandt: We work with several multi-billion dollar pension funds, which has given us an unique perspective that
influences how we approach our solutions for managers as well. Not only do we provide traditional administration
services for public pensions, but we also do data aggregation for them. One example of our
services for a public pension client where we don’t actually provide administration for their
entire portfolio of funds is our comprehensive monthly board report. We obtain all pension's
underlying positions from the managers or administrators directly, aggregate the data and
produce a report with various risk analysis to give an accurate picture of all positions.
After everything that has happened through the financial crisis, it has become vital not only for
institutions but really for all investors to understand where their concentrations are and
how much has been levered on top of that.
We also find that investors have interest in emerging managers – the appetite is
there, and investors are looking for alpha and new ideas. If they are investing in an
emerging manager they want to make sure the manager is running his strategy in
accordance to the prospectus or offering memorandum.
Greg de Spoelberch
Bob, with $5bn your firm is of course far beyond the emerging manager category. What
can you share about your investor base and what they are demanding?
Bob Kim: Our investor base is about one third institutional, so endowments and foundations, and more and more state
pension funds. Then we have about a third high net worth, multi-family and single family offices, and the last third
being primarily fund of funds, which as we all know have been shrinking as an industry, but the kind of last survivors
are the best in breed fund of funds and turn out to be very good partners in that sense.
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Let me add a few comments about the startup hedge fund managers. I believe there is an element of cyclicality around
start up managers, and that cycle seems to be improving. In other words, after 2008-2009, investors are looking now
downstream for more riskier managers that can generate more alpha or more performance and
take more risk. The investor appetite for risk taking has certainly improved, and some
institutional investors are looking to invest with smaller managers. However, even with good
performance with good pedigrees, a lot of managers still have a tough time because they just
can't scale, while the cost of running a fund is much higher today than it was four or five years
ago.
So, a number of managers are increasingly looking to join a larger platform that gives
them the backing of an institutional infrastructure and allows them to focus just on
the investment strategy. I believe that this pressure and this structural trend isn't
going to change but only continue to bifurcate the market, and we will see more of
these kind of mega funds that aggregate different investment strategies and
package them up for investors. But again, from the cyclical aspect investors are
definitely increasing their appetite for small managers.
David Tawil: We are aware that Maglan is most appealing to investors who have discretion over their own capital or the
capital that they manage for others, and can therefore allocate to an emerging manager that has generated outsized
returns; we are not necessarily a box-checker friendly strategy. Our conviction and resulting concentration is
substantial at times (within definite limits). Furthermore, although the volatility has not been amplified lately, I have to
represent that we have gained 40% for each year, two years in a row, which, for a particularly
institutionalized investor, could be as bad as saying “we are down 15% year to date.”
At this point in our evolution we are clear about who we are as a fund, and thankfully, there
is enough precedent in terms of what we do. We’ve been attracting allocators who were
early stage investors with the likes of other fundamental, value- and event-driven,
concentrated, sometimes activist, managers (Appaloosa, Greenlight, Pershing Square,
Third Point, Icahn, W.L. Ross). Of course, we can only hope to be as successful as
any one of those managers one day. But the investors also seem to understand
that even though those managers continue to be extremely active and enjoy an
extremely high profile – while we are not necessarily extremely active or
extremely high profile – many of those managers are more in the assetgathering phase of their careers than in the asset-managing phase. Needless
to say, laying the seeds for later, more institutional investors is important too,
and we focus considerable resources there as well.
Greg de Spoelberch
Jonathan, you also started out in a very new and niche strategy and probably had to do
a lot of education and communication around it, no?
Jonathan Barlow: Absolutely. When I founded Eaglewood Capital over two years ago, very few people knew what peerto-peer lending and online lending was. A lot of the marketing process focused on educating investors on the asset
class. However, over the past twelve months and in particular over the past six months, I have spent the majority of my
time speaking to investors who already have exposure to the asset class or have already done substantial research,
and fortunately, many have come across our name and reached out to us proactively.
So whereas one to two years ago I spent 80% of my time educating investors on what peer-to-peer and online lending
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
are, today I probably spend 10% of my time doing that. That has been a very nice change, and it makes our marketing
efforts much more efficient now, considering that the asset class in which we operate was traditionally a retail asset
class, if you go back five or seven years.
Over the past year you could also see a number of high profile investors and figures get involved in the space. For
example, at the end of September, BlackRock announced that they were taking an equity position in Prosper, which is
the second largest peer-to-peer lender, and BlackRock also started investing in Prosper loans. We were able to
successfully complete the first securitization of peer-to-peer loans which I believe went a long way towards bringing
more credibility to the asset class in the eyes of institutional investors.
Then you find people like John Mack, the former CEO of Morgan Stanley, who is now on the
Board of Directors of Lending Club. Another key turning point in the industry took place
this spring when Google purchased a large stake in Lending Club, the largest peer-topeer lender, which valued the company at $1.6bn. This also turned a lot of heads, and
again, helped to institutionalize the asset class.
Our firm has been a beneficiary of these developments, particularly on the capital
raising side. The majority of our capital is from family offices and we also have
some fund of funds money, a foundation, and now, interestingly, a large regional
commercial bank has opened a separately managed account with us. That
means institutional money is on its way in to this asset class, it's the first inning
and obviously there is still a long way to go in terms of penetration, but the
seeds have been sown and institutional funds will continue to find their way to
this asset class.
Ambrose Paxson: We started in 2008 and obviously that was a tough year. We had a large fund of fund investor that
had to redeem due to their clients redeeming from their funds. We reorganized the team and
focused on day-to-day operations and money management without much marketing effort. At the
end of that year of ’09, the PING Exceptional Value Fund (PEVF) was up over 190% net and then
up 105% in 2010, without many new investors.
In 2010, we launched PING Emerging Market Macro Fund (PEMMF), which was more diversified
and offered better liquidity terms preferred by institutional investors post the 2008 crisis. We
hired a dedicated Chief Risk Officer who monitors the risk daily. The advantage of
PEMMF has become apparent in choppy markets. Last year, PEMMF was up 16.92%
net and PEVF was up 8.90% net. PEMMF now has a three year track record. We
believe this fund is well suited for institutional investors needs and is scalable to
$1.5 – 2bn over time.
Greg de Spoelberch
Let's look at regulations and how they affect all of your businesses. Is there also
opportunity for managers and/or investors when it comes to regulations?
Jason Brandt: Yes, we do view regulations as an opportunity. For us it's about how we can support your business and
come up with creative ways to institutionalize it without you having to outlay the capital to do this on your own. I think
managers today are looking for the right strategic partners that help them to navigate and comply with the changing
regulatory environment – things like Form PF, which already happened, or AIFMD that is now coming to market if you
are marketing into the EU, or initiatives like the Albourne open protocol regime that appears to getting more traction.
14
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
By being the administrator we have a lot of the information already, we have your portfolio
and transaction information, and we have all the information on your underlying investors. So
whether it’s Form PF or FACTA with regards to the U.S., we can provide and support the
information required for those filings and we help provide the guidance and technology to help
with the filing needs of our clients.
Jonathan Barlow: I won't focus so much on investment advisor regulation, but rather, the regulation we see in the
lending markets. We very much view our strategies as beneficiaries of regulation because they tend to create more
inefficiency and less access to capital, particularly for small borrowers.
Let me give you some examples to show you the magnitude of what I am talking about. We recently we
saw an announcement from Chase that due to regulatory risk and the Consumer Financial
Protection Bureau (CFPB) cracking down on Indian tribe lending (which we don’t do), Chase
will be pulling out from a lot of their specialty finance warehouse lending activities to the tune
of 10s of billions of dollars. In the last day or so we saw another announcement from Chase
that they are pulling out of student lending.
In 2014, due to Dodd-Frank, we will have substantially tighter mortgage regulations, with
much higher income verification requirements for mortgage originators. All of this
regulation supports what I call “alternative lending”, of which online lending is a
huge part. We believe this increased regulation will actually fuel the growth of the
alternative and online lending industries, creating better risk adjusted return
opportunities for those who can legally and ethically find efficient means of
lending to borrowers, particularly small-ticket borrowers.
Byron Baldwin
In the new capital constrained world of Basel III, capital efficiencies are going to dominate. Eurex
Clearing offers a unique integrated clearing service across listed derivatives, OTC, securities
lending, repo/GC Pooling that gives significant operational and capital netting efficiencies. Our reuse GC Pooling collateral for all GC Pooling baskets for cash provider activities for meeting listed
and OTC margin requirements show how an integrated structure can provide such efficiencies and
reduce capital funding costs compared to a silo’d CCP. Cross margining of listed and OTC products
also generates significant capital savings and our individual client asset segregation offering carries
a low regulatory risk weighting capital requirement under Basel III.
Jim Robinson: In my view, the biggest change in regulatory regime is the JOBS Act. I don't believe the JOBS Act has
been fully understood or exploited yet. While everyone seems to be watching the mega players and the mega trends of
federal government, federal regulation or tax issues, it seems some players like Eaglewood have tapped into a lot of
what's going on down in the weeds and were able to aggregate many small investors into large numbers. I find this
interesting, because there has mainly been a lot of noise on JOBS, but very little activity.
We are working with a digital agency that’s actually owned by one quant manager, one of the founding chief marketing
officers of TheStreet.com, and what you can actually achieve online in terms of identifying your credits is scary. So put
down your mouse, go away and have a beer because you don’t want to know what we can tell about your consumer
demographic. While this is still in its very early days, I think that field will ultimately have a lot more impact than a lot of
the high level regulation.
If John got it right, a lot of the high level regulation is constricting markets and activity at the high level, but that’s
15
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
driving a lot of innovation in the middle and at the bottom. But in general, these
developments are initially hard to see. You have to get into it, get out there, start being in
the bushes and really try a lot of new things.
One of the things we haven’t touched on yet is the drive towards 40 Act Funds, UCITS,
and so on. Also on that side a lot of structural innovation is occurring that will bring all
sorts of new flavors of assets and strategies to new kind of investors. My
recommendation is to watch this space. When we will come back in a year for a
2014 Roundtable, we will have probably seen a lot more activity on that level
and around JOBS.
Greg de Spoelberch
Jim mentioned 40 Act and UCITS as new fund formats. Is anyone of you working on new
funds or new products or services?
Jim Robinson
Can I ask one question? Does anyone have any idea of going into other vehicles other than fund
vehicles?
Greg de Spoelberch
You are referring to your reinsurance vehicle that is offering a new structure for fund
managers?
Jim Robinson: Correct, forming a reinsurance company where the asset manager or hedge fund gets to run all of the
assets is another innovation that by now has been validated by a number of large and successful players. I believe the
smarter managers can now look at and study this, as many of the big guys have recognized this
earlier and developed such a platform with dozens of different products and opportunities for
aggregating assets. Running your assets through a reinsurer is an alternate structure and
thus one of the different sources of innovation for addressing different markets and different
capital or investor sources. It offers a lot of benefits for investors and managers, for which
such a structure represents true permanent capital.
As we have discussed, the hurdle for a manager to attract early capital is very high, people
tend to bet on the bigger houses before they bet on the small guys, though I do think
the cycle is changing. In the light of this, we do see a bigger flow of younger and
younger managers trying to access those other pools of assets through
innovative structures, because it's getting so difficult to attract capital from the
more traditional fund allocators.
David Tawil: Setting up a reinsurance vehicle is quite interesting. Some of the most generally ambitious managers have
paved the way: Greenlight Re, Third Point Re, SAC, Paulson, and so on.
In considering a reinsurance vehicle, Maglan’s take on it could move the endeavor to a new level, and it’s in that
context that we are discussing options with Jim and his partners. Steven and I have always been an innovative and
entrepreneurial duo. For example, while we were at Credit Suisse, we created a trade receivables protection business
– essentially, CDS being sold to your average supplier to a broken company like J.C. Penney or Sears, as a proxy for
insurance. Those counterparties cannot transact in CDS because, among other things, they desire an odd lot in terms
16
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
of their receivables balance and/or they need an odd lot of time, like the next four months, because it's holiday season
and that's when their high balance is reached, which causes them to lose sleep. Frankly, we started this business by
banging phones and urging people to insure their risk, so to say. It was executed in the form of a financial product as
opposed to an insurance product. The product soon became an integral part of the arsenal that a credit manager uses
to protect against high-risk customers.
Since leaving Credit Suisse, we have continued the receivables business outside of our fund, and we have made some
forays into converting the business to an insurance product. There really is no comparable insurance or factoring
product- a single-name, non-cancelable, customizable accounts receivable insurance product, available primarily on
high-risk credits.
Jim and I spoke only a couple of days ago, and Maglan would consider creating a reinsurance vehicle, which would
offer, among other insurance products, trade receivables insurance. In substance, the two businesses (event-driven,
distressed investing and high-risk receivables insurance) have a lot of synergies. And in the reinsurance vehicle, as
opposed to just being a vanilla reinsurance entity, we will execute some interesting and very accretive transactions in
the form of trade credit insurance, a business that we know and love dearly.
Let me also follow up on Bob's comment regarding research. The investments we focus on are often off many funds’
radar screens. We often find the best opportunities when there is scant to no sell-side research.
Steven and I used to work at Credit Suisse in Leveraged Finance sales and trading. Since 2008, throughout the
industry the available resources on the sell-side have been chopped enormously. The Volcker Rule resulted in a lot
less revenue generated from proprietary trading and inventory trading. Furthermore, there are simply not enough
proceeds generated from sales and trading in high-yield, distressed, fallen-angle and post-reorg equities to pay for
lots of research analysts. This has resulted in a dearth of research coverage, which leaves those willing and able to do
the work with a lot of opportunities; and, I don’t think that this will change any time soon.
Because of the limited sell-side research, the opportunity comes with considerable new
responsibility. In contrast to environments that existed in past cycles, we believe that in order
to unlock value, a manager must be a great cheerleader for its investments. Once we’ve found
value that nobody else has seen, and we’ve invested, we need to get out there and start
trumpeting really loud for people to recognize the same value that we do. This can include
sounding out in the press and other media outlets that we access. Also, frankly, this sometimes
includes sharing our work, so that others don’t have to reinvent the wheel and are
more likely to take the time to focus on the opportunity we’re presenting.
The mega names and structures will always be covered, but the next tier down
may not necessarily be, and because of our asset base, we can afford to
concentrate on those and try to make some outsized returns there. All this
comes as a consequence to the changed regulatory environment, which has
created opportunity in situations that are not well-covered.
David Tawil
17
I pointed out before that there is not a lot of distressed debt these days, but when eventually the tide
comes in, there is the possibility that it will be a tidal wave. Financial professionals have been
predicting the “maturity wall” for some time; it will come because interest rates eventually have to
rise and challenged borrowers will have to deal with debt maturities in a rising interest-rate
environment. I think that between 2016-2019 we have a good chance for the 100-year storm, and
the sell-side will be inundated with names. We could be facing a scenario where the sell-side won’t
be able to keep up with the volume of paper that will come to market.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Jason Brandt: Jim predicted a lot of activity following or around the JOBS Act. That act
seemed more politically-driven than regulatory-driven. But, in doing so, a number of
unintentional consequences were created, because the barriers are still there or have in fact
gone up with regards to the investor validation verification, Bad Actor rules, disclosure
stipulations, things of that nature. Who is going to be doing that? That could be a potential new
product. The question is what's the pricing point for that, what are people willing to digest
with regards to the pricing to have access to that investor base, and how much does
that really give you as an investor?
Jim Robinson: There is a flip-side to that in the angel networks. The angels themselves
want to get accredited or verified, so there is the cottage industry of people doing the
verification for the individual, so they can get involved with more and better deals. And the
pitch to the angels is saying “don't get locked out of a deal because you’re not verified.” So
it's interesting to see both sides of the equation and a big opportunity.
Jason Brandt
I think so as well. In the internet you find now more and more of those capital raising sites. We are
looking at those as a possibility and valid opportunities.
Greg de Spoelberch
Jon, are you thinking of doing both sides on this intermediation? That is, can you use the
crow funding vehicles to resell your offering as well?
Jonathan Barlow: Yes, it is an interesting idea to sort of “resell” through the crowd funding
vehicles. We have certainly discussed the mechanisms of how to do that with a relatively
small team in order to take advantage of some of these opportunities right now.
Coming back to new products, about six weeks ago we launched a new fund with an anchor
investment of $20m from a large family office, SF Capital. We haven't announced details about
that vehicle yet, but what I will say, generally, is that we are now seeing many online
lending companies receive significant funding and very high valuations from the
venture capital community. We have seen few funds that are focused on investing in
this space, so we have created a private equity vehicle that will primarily invest in
credit and loans like our first fund, but also has the ability to receive equity stakes
in the platforms through which we are purchasing loans. The aim here is not only to
achieve superior risk adjust returns on the credit side, but participate in the equity
upside from this industry.
Jim Robinson
Jonathan Barlow
18
Are there any conflicts of interests here? That killed a bunch of the hedge fund guys in ’07 because
all the big hedge funds wanted to take pieces of the originators they funded. And when the crises
occurred, they found themselves on both sides of the table. This trade looks good when everything
is going up, it really hurts when things fall apart as you cannot represent your investors and the
loan originators at the same time.
Well, I think we are luckily in the first inning of this phase, so hopefully we will have the foresight to
get out before that happens.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
Greg de Spoelberch
Bob, your firm has been doing well in terms of raising capital, please tell us more about
the funds you are currently building out.
Bob Kim: We have two funds open that we continue to build out, one is the tax-efficient equity long/short fund I run.
This one is our newest fund and will complete its three year track record this year, so that is a big and exciting
milestone.
The other fund that we're focused on is our multi-strategy, multi-manager fund which is comprised of over 35
investment teams with a primary focus on equities. The philosophy or focus of that fund is – going back on how the
industry is getting restructured at the moment – that smaller portfolios tend to generate more alpha because you are
more nimble in getting in and out of markets.
With prop desk shutting down, some of our larger peers sizing up to having managers run at least a half a billion or
billion dollar kind of portfolios and smaller managers not able to stay afloat, we see actually fewer people than ever
dedicate to this sweet spot and being able to run such portfolios. So for us, it is a very good hiring environment to
aggregate those strategies into an investable fund for institutional investors where we risk-manage and capitalmanage that process. We are also very excited about that product and think we can grow this fund to $3-4bn in assets,
it is currently at about $1.5bn.
From a strategy perspective, I believe the short side of the portfolio can be particularly interesting going forward. So
far 2013, the short side has caused a lot of frustration for long-short managers. With the markets going straight up not
only has shorting not worked, we also found that the top 50 most shorted stocks in the S&P 500 have actually
outperformed the S&P by 20% this year. These things typically happen in a market beta
rally where typically all junk stocks rally. That by the way also explains why the average
equity long/short fund is up only 10% for the year net, or whatever that number is, so
much less than the S&P.
But as always you need to look the additional step ahead. We did a study on this
phenomenon, looking back it the last 25 years across multiple cycles in a 12-month
time period. When the most shorted stocks outperform by this much, then typically
they start to mean revert drastically. So we think this is a very good time to select
individual stocks, particularly the ones that really routed like the junk stocks
at that rally.
Another strategy change we may see soon is a change of investor
sentiment towards valuation. I believe valuation with growth potential
will be an important indicator going forward. So far this year, valuation
was not important factor, in fact it was a negative factor, for example
as I mentioned on the short side. If you thought stocks are overvalued
and you shorted, that was a terrible way to invest. So again, the short
side of portfolio we think is a very good opportunity going forward.
Greg de Spoelberch
19
I am curious to hear what you think can be the biggest risk to the markets going forward.
Many people are concerned for obvious reasons how the interest rate environment will
look like in terms of the speed of rates going up.
OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
David Tawil: With regard to loan-to-own investments, we normally catch paper sold by high-yield
investors, so we are constantly watching the activity and development of high-yield investing.
For the past 10-plus years, high yield has been a successful trade. Bill Gross (PIMCO) has
been crying the blues for a number of months and I don’t think we have even started to see the
eventual tectonic shift in that segment of our industry. When interest rates begin to rise
meaningfully once unemployment comes down, we are going to get not only tapering, but we are
going to get upticks in real rates and it's going to be a very challenged world for highyield investors for a while. Only the most sophisticated high-yield traders will
prevail.
What that means in terms of what we are doing is that we don’t have any
investments that are very interest rate reliant or sensitive; for instance, we are not
in any real estate related investments. We'll just have to wait to see whether the
Fed is able to manage the transition smoothly or whether the interest rate rise
leads to calamity.
Jonathan Barlow: We are also of the view that rising long term rates pose a systemic risk, and as a result we have
positioned our strategies around very short duration assets that also happen to have high yields because of the
inefficiencies of the asset class in which we participate. Our P2P portfolio right now has an average duration of 15
months, and yet, year to date we are up in the teens on the portfolio.
We believe there are a lot of investors, who despite this macro-view, still need to earn income and still need to earn
yield, and we believe that considering an allocation to a small loan portfolio is a great option. Through our
securitization we were also able to fix the interest rate on a portion of our borrowings. We own
short duration assets and on the liability side of our funds' balance sheet we have fixed the
cost of debt on a majority of our borrowings. We think we are well protected at this point.
We have created our own valuation model that we use to evaluate loan portfolios offered
for sale by third parties, and our auditor has guided us how we should use that same model
for marking our portfolio to market.”
Our new fund, which we will publicly announce in the next few weeks, is
structured as a private equity vehicle, but with a very short capital call and
reinvestment period. We will also use credit valuation models, but there
investors won't be coming in and out at NAV on a monthly basis.
We have been a buy and hold investor so far, but we think that a secondary
market for these assets is developing and that the asset class will become
increasingly liquid over time.
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OPALESQUE ROUND TABLE SERIES 2013 | NEW YORK
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